The building blocks of blockchain

The building blocks of blockchain

29.09.2017

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von Alberto Perucchini

Blockchain seeks to turn the internet into a more efficient marketplace. It therefore replaces law with technology as the source of trust between market participants. But what exactly hides behind this revolutionary technology?

Blockchain technology has the potential to provide the missing piece of the internet – the exchange of values in addition to the exchange of information (see part 1 of our three-part series on blockchain). To achieve that goal, blockchain embeds trust into a protocol, to which all participants in a business network can agree, in order to modify and exchange value.

Creating a chain of valuable blocks In a blockchain set-up, the participants generate decentralised, trusted and immutable distributed ledgers – a ledger is a record of value such as a record of bank transfers or a registry of real estate titles. These distributed ledgers are called ‘blockchains’ since they consist of a ‘chain of blocks’ created and agreed upon by the network participants, with each block containing an encrypted record of the most recent network-validated operations, as well as of all the operations contained in all previous blocks.

Blockchain technology makes the internet more efficient Other than with classical ledgers, neither a trusted central authority, nor the holding of separate ledgers by the network participants are required. Rather, a single ledger exists, with identical copies distributed among the participants. Technology, not law, thus becomes the source of trust between participants, enabling the digital notarisation of information and exchange – and the Internet of Value. This leads to significant gains in efficiency, as participants need not waste resources or time validating modifications or transactions with the support of a trusted central authority.

But what exactly are the building blocks of this technology? We distinguish mainly the following three elements:

Encryption and cryptographic tools: these ensure identification, validation and non-repudiation of identities and operations on the ledger, as well as information integrity — various encryption methods are used, including, famously, ‘public-key cryptography’;

Consensus mechanisms: these are algorithms followed by network participants in order to determine whether a ‘block’ of validated operations should be added to the network’s shared ledger (or ‘chain’), or rejected;

Timestamps and ‘hashing’ of previous blocks: these ensure that each subsequent block on the chain includes an encrypted, consistent and immutable record of all previous blocks.

Five properties of blockchain protocols As a result, blockchain technology is characterised by the following properties:

1. Decentralisation Blockchain solutions remove the ‘single point of failure’ embodied in a compromisable, trusted central authority; consensus about modifications and transactions of value is reached in an environment in which trust has been disintermediated, decentralised and distributed through a technological instrument (the consensus mechanism).

2. Immutability Since each block in a distributed ledger’s chain refers back cryptographically to the previous blocks, records are permanent as long as the participants who carry out the chain’s consensus mechanism continue to maintain the network.

3. Transparency Network participants have visibility access to the process of consensus formation on-chain, as well as to the blockchain’s entire record — this enhances business-friendliness (for some use cases), and guarantees an audit trail and a trusted workflow.

4. Security Because on-chain ‘addresses’ are cryptographically secure, and participants can place their trust in the integrity and secure features of the consensus mechanism, the integrity of identity, information and modifications/exchanges is guaranteed.

5. Efficiency Blockchain set-ups have the potential to be substantially more efficient than classical ones, in either settlement speed (near-instantaneous), costs (for network and chain maintenance) or risk management (trust generated by consensus algorithm). Blockchain implementations can further be borderless, ‘distance-neutral’, achieve permanent uptime, and potentially create new revenue streams (e.g. for on-chain data analysis services).

In part 3 of our series, we will look into the most promising use cases of blockchain.

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